Markets focus on possible changes under new Fed leadership

The markets have a good idea where rates will be at yearend, but who will head the Federal Reserve remains an open question, raising many concerns about the central bank’s future direction, as reports circulate that President Trump changes his mind about his selection daily.

It seems the choice has been narrowed to either Jerome Powell or John Taylor, with an outside possibility that current Chair Janet Yellen gets re-nominated.

While the president likes how the economy is currently functioning and the markets have gained with Yellen at the helm, his desire to put “his mark” on the Fed pushes him to select one of the others. He has even asked senators and an interviewer what their thoughts were.

A Powell-led Fed would be closer to Yellen’s Fed than a Taylor-run central bank would be, so, for now, he seems to be the frontrunner.

“If Powell is nominated, we won’t see as much change,” according to Gary Pzegeo, head of fixed income at CIBC Atlantic Trust Private Wealth Management, who said he expects Powell to be nominated. “He’s a sitting governor.” And even if a choice is announced before the December meeting, Pzegeo said he would expect a rate hike to proceed as “the existing team is locked in for this year.”

“If the administration makes a change in leadership, everything is on the table,” said Gary Pzegeo, head of fixed income at CIBC Atlantic Trust Private Wealth Management.

Going forward, he said, Powell would have “a lighter touch” than Taylor.

Taylor would take the Fed in a “more hawkish” direction, Pzegeo said. “The market would be uncomfortable,” although Taylor wouldn’t push for his rule to be implemented from day one.

“John Taylor is rightly viewed by the market as more hawkish, even though it’s a huge exaggeration to suggest that he would push the Fed towards a mechanical application of the Taylor Rule in setting rates,” according to Brian Coulton, chief economist at Fitch Ratings. “Specifically, he has expressed some skepticism towards the view that the neutral rate of interest has collapsed. That view has been quite important in persuading the Fed to adopt a very cautious approach to normalization in recent years so any shift away from that line of thinking would imply a faster pace of normalization.”

The Federal Open Market Committee meets Oct. 31 and Nov. 1 and no rate hike is seen, but most observers expect a 25 basis point increase at the Dec. 12-13 meeting. Pzegeo, Coulton and NAR Chief Economist Lawrence Yun agree with this scenario, with Yun expecting two more similar interest rates raises in 2018.

“It’s easier for the Fed to prepare for 25 and take it away if they need to,” Pzegeo said.

If someone other than Yellen is nominated, Pzegeo said, there’s no guarantee of status quo. “If the administration makes a change in leadership, everything is on the table.” Even the quarterly press conferences and the Summary of Economic Projections, or dot plot, he said, may be “purged by the new leadership.”

But, Yun cautioned, “Moving away from transparency is not a good idea.”

Subscribe Now

Independent and authoritative analysis and perspective for the bond buying industry.